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- Sell AUD ahead of Wednesday's inflation data for Q4 says HSBC.

- As weak inflation and housing market woes will hurt AUD this year.

- Morgan Stanley is also a seller, on China and housing market fears.

The Australian Dollar could be on course for fresh losses over the coming weeks as markets are forced to take stock of what is an increasingly negative outlook for domestc interest rates, according to analysts at HSBC, who say clients of the bank should sell the Antipodean unit around current market levels.

Australia's Dollar faces its biggest test of the New Year so far on Wednesday when inflation data for the final quarter will be released. This could either throw the Antipodean currency a lifeline or see it felled and forced lower into rarified territory on the charts.

Below-target inflation and wage pressures that are insufficient enough to facilitate a sustainable return of the consumer price index into the 2%-to-3% target band are the main reasons for the Reserve Bank of Australia (RBA) interest rate policy that has hurt the Aussie so much over the last 18 months.

"With inflation likely to remain entrenched below target and external risks on the rise since policymakers last met, uncertainty around the February monetary policy meetings should rise. For the AUD, any sign that the RBA optimism is starting to be tested, particularly relating to the oft-repeated statement that the ‘next move is more likely to be up’, would likely open up a move in AUD-USD below 0.70," warns Tom Nash, a strategist at HSBC.

Nash has been telling clients throughout January they should sell the Aussie around the 0.7180 mark and look for a sustained break below 0.70 by early next month as it will be the RBA's Tuesday 05, February meeting that is likely to prove the catalyst for fresh losses.

The danger for the Australian Dollar is that a weak inflation reading for the final quarter of 2018 would be all that's required for the market to become convinced that the next change in the RBA's interest rate will be a cut that is delivered some time in 2019.

Investors are already betting in the interest rate derivative markets there is close to a 100% chance the RBA will cut its cash rate before February 2019. The market-implied interest rate for that month was 1.29% on Friday, almost a full rate step below the current 1.5% record low cash rate.

However, and while the bond and interest rate markets may have already taken account of those perceived odds, HSBC says the currency market is yet to fully take account of this given the Australian Dollar has been supported in recent weeks by optimism over the U.S.-China trade talks.

Changes in interest rates are normally only made in response to developments in the inflation outlook but impact currencies because of the push and pull influence they have over capital flows. Rising rates are normally positive for a currency and vice versa.

Above: AUD/USD with increasingly unfavourable 2-year AU-U.S. bond yield spread (orange).

"Trends in the housing market and regulation remain supportive of medium-term currency weakness. Australia’s house prices are declining at their fastest pace since 2008, and the final verdict by the ‘Royal Commission into Misconduct in the Financial Services Industry’ could weigh further," Nash warns.

Nash and the HSBC team are not the only analysts to be concerned about Australia's faltering housing market and the impact it could yet have on the currency. With prices falling across most major cities in the last year, analysts are watching for signs that of an impact on the broader economy.

Negative wealth effects arising from lower prices could easilt deter household spending during the quarters ahead, which would mean slower economic growth, while lower levels of new building approvals could impact on activity and jobs within the construction sector.

Morgan Stanley cited the downturn in the market as one reason for advocating last week that clients of the global investment bank sell the Australian Dollar and buy Pound Sterling or the Brazillian Real instead.

The recommendation came after National Australia Bank (NAB) raised the variable mortgage rates it charges homeowners in order to offset the impact of that rising international funding costs are having on its bottom line.

NAB is just the latest in a growing line of major Aussie lenders to have hiked borrowing costs for households, in a move that is tantamount to the RBA itself having lifted its own cash rate, although higher mortgage costs do nothing to lift the value of the domestic currency.

"We see this mortgage hike as a way for Australian banks to pass on higher rates to consumers. Higher rates at a time when the global economic outlook is deteriorating and Australian households are over-levered is negative for the housing sector, which has yet to bottom out. In the coming month, we continue to see higher funding costs leading to negative wealth effects, lower consumption and a weaker AUD," says Hans Redeker of Morgan Stanley.

Above: GBP/AUD rate alongside an increasinglly advantageous GB-AU bond yield spread (orange).

The only thing to have helped keep the Aussie above water in 2019 is mounting hopes the U.S. and China can reach a deal to end the trade war between both countries before a March 01 deadline that will see White House tariffs on $200 billion of China's annual exports to America more than double to 25%.

Australia's Dollar is senstive to news about the trade war because of its close correlation with China's Renmimbi, which has grown stronger over time given the former is effectively underwritten by the nation's iron ore, coal and gas exports to China.

Talks are still ongoing and could yet produce a deal that sends a wave of relief reverberating through the global economy and finanical markets, which might initially be positive for the Australian Dollar. But even that is unlikely to save the Antipodean unit from fresh losses this year according to Morgan Stanley.

This is because, in a cruel twist of fate, the deal that finally ends the tariff fight between the world's two largest economies could ultimately undermine the bilateral trade linkeage between Australia and China.

"Natural gas is another product type which we think could be relatively practical for China to increase imports of from the US. The US has a trade surplus in liquefied natural gas to the world. In 2017, only 8% of China’s gas imports came from the US, while countries such as Turkmenistan and Australia accounted for 20% and 19%, respectively," Redeker warns.

News reports covering progress in the trade negotiations have suggested a key part of the deal that is shaping up will be a pledge by China to increase its imports of U.S.-made goods in order to reduce the bilateral trade deficit between the two countries.

The U.S. has been working hard on the international stage of late to boost exports of liquefied natural gas, which is also a commodity product that is of increasing importance for Australian trade.

China can only import so many commodity products and if it were to agree to buy LNG from the U.S. instead of Australia, then the deal that eventually ends the trade war that hurt the Aussie Dollar so badly in the latter half of 2018 could turn out to be one of the factors that undermines the currency this year.

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